Welcome to your eigth installment of " Home Mortgage Secrets Revealed!"
essential reading for Homebuyers, Refinancers and Renters!
This 12 issue newsletter focuses on ways to get the most out of your home, by giving current and timeless advice on refinancing, buying your first home and how to avoid common mistakes made by homeowners, wannabe homeowners and renters. So whether you are buying, refinancing or thinking about either, every issue covers a topic that will help you no matter what stage of homeownership you are in.
ISSUE 8
How To Afford A Mortgage
The main deterrent in buying a home today is not income or credit requirements but rather finding the necessary funds to cover the initial costs and downpayment. Traditionally a 20 percent downpayment is required and in many instances the related closing costs and escrow funds can run another 10 percent. In today's market of high prices for even modest homes, up front fees of 30 percent present more of a barrier than credit history or mortgage payment ratios. Funds for the purchase of a home can include obtaining a cash gift from a relative or cashing in an insurance policy or retirement account; fortunately, there are other more available methods to lower the initial costs of obtaining a mortgage.
Many real estate agents do not push FHA or VA loans because they believe that the paperwork involved with these loans is too burdensome. While the so-called "government" programs are more detailed than a straight conventional loan, they are by no means overly difficult to process if you deal with an experienced lender. FHA loans require only about 3 percent downpayment and almost any resident of the U.S. is eligible for a loan. Contrary to what many people believe, the FHA insured loan program is not a subsidized loan for low-income individuals. VA loans do not call for a downpayment at all. That's right; VA loans offer 100 percent financing for many veterans of the U.S. armed forces. The FHA and VA programs offer more lenient loan terms than conventional loans, but there are still certain guidelines on income, credit, and property requirements to meet mortgage amounts that are limited to about $210,000+.
Conventional loans also offer low or no downpayments with PMI (Private Mortgage Insurance). PMI is not life or accident insurance, but rather insures the mortgage itself and covers the lender in the event of a foreclosure on the property. Generally, lenders will require PMI when there is less than a 20 percent downpayment. Many lenders offer conventional loans with as little as 5 percent down and a few offer loans with no downpayment at all. Generally conventional loans with PMI are subject to more restrictive credit and income guidelines than FHA or VA loans. Interest rates among most types of prime loans are roughly equal.
The key to using the minimum in up-front funds is to have the seller pay most or all of your closing costs. Depending on the down payment you make, the seller may be permitted to absorb all of your closing costs. Under the VA program, the seller can also pay the tax and insurance escrow allowing the buyer to get in the home with little or no funds. FHA and most conventional programs allow the seller to pay up to 6 percent of the sales price to the closing costs; conventional loans at 95 percent LTV (Loan-To-Value) allow the seller to pay only 3 percent of the sales price towards closing costs. You may have to make the seller a full price offer to have him absorb the closing costs, but any offer can be presented. If the seller does agree to pay the closing costs, ask your lender if you can obtain a loan without escrowing for taxes and insurance. This will mean that you will have to come up with hefty payments when the property taxes and insurance are due periodically throughout the year, but you will have avoided establishing a fat escrow fund at closing. Beware however, finding money to pay taxes and insurance in a lump sum can be difficult and most lenders won't allow it unless you have a large (20 percent) downpayment. Also, try to set up your closing to occur towards the end of the month, because you will have less pre-paid interest due at settlement for the month of closing.
Many times a 5 percent cushion is built into the sales price of a home to allow negotiation of a sales offer. Just remember that in a hot real estate market, the seller may not be anxious to accept a low offer and may reject the agreement on a home that you really want due to small differences. If you play the game, you must be prepared to lose and go on to the next property.
You should try to get pre-approved by a lender prior to shopping for a home. A pre-approval is a strong marketing tool when making an offer that may contain many a number of seller concessions. Telling a seller that you are already approved for a loan makes the acceptance of a low offer or one where he may be paying the closing costs much more palatable.
How to Maximize Your Income
Most lenders will require that you disclose your income from the previous two years and use this income to qualify you for a mortgage. They will ask for W-2 forms, tax returns, or bank statements to verify the income. The lender will then apply a formula to the income to determine your ability to repay the loan. A common requirement is that the mortgage payment cannot be greater than 28 percent of the borrower's gross monthly income, and the mortgage payment plus all other monthly obligations cannot exceed 36 percent of the gross monthly income. FHA allows higher ratios, and there are always exceptions to the guidelines.
One way to expand your purchasing power is to obtain a low, low rate mortgage such as some adjustable rate mortgages. They may begin with an introductory rate 3 percent under the going rates. The disadvantage to these types of loans is that the rates are subject to change as frequently as every six months. Payments are permitted at an artificially low rate but these may result in "reverse amortization;" that is, the mortgage balance may be higher at the end of the year than when you started! This may not always be bad, particularly if you are buying in an area of high appreciation or if you only intend to live in the home for a few years but know what you are getting in to. Not all adjustable rate mortgages are negative amortizing and lenders are required to give you a program description. Get it and review it until you are sure that you understand all of the terms. This type of loan can however add thousands to your purchasing power due to the low initial rate.
If you don't have the stomach for an adjustable rate mortgage, explore 5/1 or 7/1 type loans. The rate will stay the same for the first five or seven years, and then it changes to a one-year ARM for the remainder of the term. The initial rate is lower than a fixed 30-year mortgage, and by the time the rate is due to change in five years, you may be ready to move or refinance.
Take a look at your monthly installment payments. It can be advantageous to use some of your downpayment money to pay off high interest rate or short term debt to ease your
qualifying ratio. Paying off a car loan with a few years to run may erase a high dollar monthly
payment for only a few thousand dollars. The result may be a higher mortgage due to less downpayment, but monthly you will be spending less and mortgage payments only increase by only a few dollars per thousand due to longer amortization.
In general, always try to obtain a 30-year amortization loan and never pay up front points (fees for a lower rate) on a loan. Shorter-term loans do save interest over the long run but decrease buying power up front. You can always make extra payments later if you want to shorten the term of the mortgage. Forget about bi-weekly mortgages, they just force you to make extra payments whether you want to or not. It may be smarter to save money in a mutual fund or other vehicle that could offer a better return and easier access to funds when needed than a mortgage. Owning a home with a mortgage could allow you to itemize your taxes for the first time and save money on April 15th.
Finding a Bargain Home
One of the clichés of the real estate world is the most important thing to consider when buying a home is "location, location, location." That also applies when trying to find a bargain in a home. Generally it is better to buy a "fixer-upper" in a terrific neighborhood rather than a great but bargain-priced home in a less desirable neighborhood. There are always bargains in run down areas, but while these houses may offer a lot of house for the dollar, they will be difficult to sell and may have little or no appreciation despite the time, energy, and money you have poured into them.
Forget about buying a home from the newspaper foreclosure notices, they are difficult to purchase and better left to the pros. Instead foster a relationship with a real estate agent and remain loyal to that agent. You want to find a home that may need some cosmetic work but is basically sound. Estate sales are probably the best area you want to explore, and try to investigate listings that have been on the market for awhile. Keep in mind that the reason a property has been on the market for a long time is because it is less desirable for some reason. Remember, most every property has its price and will ultimately sell when the price/value ratio becomes attractive. Multi-family homes can offer some additional income if you are willing to put up with the headaches of being a landlord with tenants in close proximity. It can be financially profitable to live in the multi-family for a few years and then keep the property as an investment after you move to a single family home.
If financially able, look to buy a home during periods of high interest rates or economic recession. During those times home prices may drop or the seller will be more amenable to accepting low offers. High interest rate periods don't last forever, and when rates come down or the economy improves you can refinance for a lower rate and even take out some excess cash from appreciation.
Credit Scores and Sub-Prime Loans
Prior to the early 1990s home buyers had to have a very good credit history to qualify for a loan. Those who had foreclosures, repossessions, or bankruptcies in their history were told to wait seven years and to walk the straight and narrow credit path in the meantime. During the 1990s a new type of financing became available called "sub-prime" lending. Those who could not previously obtain a loan were eligible for a sub-prime loan where the interest rate charged may be 2 percent to 5 percent higher than the prevailing "prime" mortgage interest rates. Basically there is a trade off by the lender for receiving a higher interest rate in return for accepting a perceived higher risk loan. The good news is that now many more people are eligible to obtain a mortgage albeit at a higher than the prevailing rate and with this mortgage are frequently adjustable rate mortgages with a pre-payment penalty that makes it expensive to pay off during the pre-payment penalty period that may be three to five years.
During the 1990s credit scoring also came into effect. Credit scores, or FICO scores, attempt to classify a person's credit history into one three-digit number ranging from 300 to 900. A credit score of 650 or above is deemed to be a "good" credit risk by many lenders, the higher the better. In fact, a credit score of 700 or above can allow for a 100 percent LTV loan at only a little higher interest rate. A score of 625 may be acceptable, but scores from 525 to 625 usually fit into the sub-prime loan category. A score under 500 makes it very difficult or impossible to obtain financing of any sort. There are three credit repositories in the United States and their method of determining a person's credit score is somewhat a secret but mainly based on the past payment history and overall amount of debt.
Hidden Costs in a Mortgage
Most every loan is going to have associated with it fees for title insurance, appraisal, credit report, etc. Most of these fees are commonly required amongst all lenders and they must give you a list of their costs associated with a mortgage. Despite the fact that the costs are disclosed, some lenders may include extraordinary "junk" fees in their costs that an unwary buyer may not recognize as an extra fee. At the time of a loan application lenders are required to give you a written closing cost estimate and a HUD booklet explaining settlement costs. If you don't automatically receive it ask for it because this booklet does effectively explain most costs but unfortunately is often not read by home buyers.
First, don't pay up-front points to obtain a lower rate. Fees paid for a lower rate do result in a lower payment but it is not cost effective until about five years out. While a 1 point origination fee is very common, paying extra points beyond this usually provides very small if any benefit. By that time you may have sold or refinanced the property. Some lenders advertise artificially low rates to attract customers but load up on fees to compensate for a lower rate. A tip off to a lender that charges hidden fees would be a lender who advertises interest rates that are appreciably lower than the competition. Interest rates are very competitive and shopping for the very best rate may in fact work to your disadvantage. Differences in rates of 1/8th or 1/4th of a percent result in very little difference in a payment and may be offset by poor service and added hidden fees.
Correcting Past Credit Problems
Contrary to what you may have heard, credit reports are for the most part accurate. Common last names and a "Jr." in the family does cause a few problems but credit reports identify people by social security number, address, and name. If you have an issue with your credit report, credit-reporting agencies are required to attempt to resolve the problem. Most of the information has to be provided by the individual and they should stay in touch for as long as it takes, frustrating or not. There are three main credit repositories in the United States: Equifax, Trans Union, and Experian. These companies each hold a database of information and provide it to a more local credit-reporting agency that may actually be issuing the report. If you have a dispute, you can go direct to the three repositories to attempt to clear the issue. Their addresses are listed below.
As mentioned before, credit scores in the 500 range can cause problems when attempting to obtain new credit. You can raise your score if the original information was incorrect, or you can over time improve your payment history, but it may take a few years of diligent pay history to appreciably raise your credit score. If unfortunately you are unable to work your way out of debt on your own you can turn to credit counseling agencies such as Consumer Credit Counseling Service (CCCS), a non-profit that has offices in many cities that will work with your creditors to reduce your installment payments. There too it will take awhile to improve your credit history and score.
If worse comes to worse declaring bankruptcy may be your only answer, but despite its growing popularity, I recommend it only as a very last resort. A bankruptcy will stay on your record for years and make obtaining credit difficult. There are two common methods to declare bankruptcy: Chapter 13 and Chapter 7. Chapter 13 is where an individual attempts to restructure his debts and pay them off over time. Chapter 7 is when an individual is relieved of his obligations included in the bankruptcy petition. The descriptions above are overly simple and general, but the bankruptcy option is a poor one and you should explore your options with an attorney before making a decision. After a bankruptcy is discharged (finalized) a new mortgage can be obtained usually on a sub-prime loan arrangement. Most lenders state that at least a year must pass after Chapter 7 bankruptcy discharge and a new good credit history must be established. A difficult chore, but it can be done. Make sure that rent or mortgage payments have no late payments for at least the previous 12 months. Avoid paying in cash; make all payments by check or credit card where your payment history can later be verified. It will also help to explain to your lender that the situation that originally caused the problem, a job loss, illness, etc., has now been resolved.
Equifax
P.O. Box 740241
Atlanta, GA 30374
800-685-1111
Trans Union
P.O. Box 1000
Chester, PA
800-888-4213
Experian
P.O. Box 2002
Allen, TX 75013
888-397-3742
Experian Website
Keep in mind that I am here to work with you in correcting, and upgrading your credit report! Working on this alone is a daunting task. Don't do it! Just drop me a line and I will sign you up for a personal consultation where we can talk about coming up with a plan to get you into the home of your dreams.
Why do I offer this information free of charge? I am offering this information free of charge because I want to be your mortgage advisor. I offer more than simply a loan: I'll personally advise you on how to use and apply the principles I teach you. Worried that you can't remember all of what is contained here? Call me. I want to earn your business.
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This report was provided by:
Jacques E. Laubert, Member
Mortgage & Credit Expert
Razor Mortgage LLC
"Shaving Your Payments" ®
700 Harry L. Drive Suite 220
Johnson City, NY 13790
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Toll Free: (800) 548-2526
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DISCLAIMER - NOTHING IN THIS REPORT IS TO BE SUBSTITUTED OR TO BE CONSTRUED AS FINANCIAL, LEGAL, OR ACCOUNTING ADVICE, OR ADVICE OF ANY KIND. THE INFORMATION CONTAINED HEREIN IS SOLELY INTENDED TO BE INFORMATIONAL, AND NOT TO BE CONSTRUED AS ADVICE OF ANY KIND. THE READER ASSUMES ALL RESPONSIBILITY FOR ANY FINANCIAL, LEGAL OR ACCOUNTING ACTIONS THEY TAKE, AND UNDERSTAND THAT THE READER MUST CONSULT WITH THE APPROPRIATE PROFESSIONALS BEFORE TAKING ANY ACTIONS REGARDING THEIR FINANCIAL, LEGAL OR ACCOUNTING SITUATION. THE READER HOLDS THE AUTHOR, PUBLISHER, OR ANY DISTRIBUTORS OF THIS REPORT HARMLESS FROM ANY CONSEQUENCES THAT RESULT FROM ANY FINANCIAL, LEGAL OR ACCOUNTING ACTIONS THE READER TAKES UNDER ANY AND ALL CIRCUMSTANCES.
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